Twin Traps: Financial Overconfidence During a Time of Cognitive Decline

We all know that our cognitive abilities tend to decline in our elder years (actually, age 60 on). But did you know we also tend to become overconfident in our financial knowledge and ability to make financial decisions at the same time? Does your retirement plan include steps to deal with this?

Courtesy of researchers at the University of Missouri and Texas Tech University:

COLUMBIA, Mo. – Previous studies have shown that as humans age, cognitive declines are inevitable. Now, a recent study by researchers at the University of Missouri and Texas Tech University has confirmed that this cognitive decline extends into financial literacy. The researchers also found that older individuals retain a strong sense of self-confidence, which could add to the problem, leading to significant mistakes when making financial decisions.

Mixing a decline of financial literacy with an increase in self-confidence is a toxic combination,” said John Howe, professor and chair of the Department of Finance in the Trulaske College of Business. “This opens the door for more honest mistakes as well as fraud. It’s widely known that older adults are very common victims of financial fraud. It’s important that as we age, we find someone who has our best interests in mind when managing our finances.”

In the study, Howe and his colleagues, Michael Finke and Sandra Huston from Texas Tech University, surveyed more than 3,850 individuals 60 and older and found that they experienced increasing declines in financial literacy, which is the ability to understand and make good decisions about personal finances. The researchers also found that the participants’ self-confidence increased slightly. This meant that even though they didn’t understand financial terms or policies well, they still believed they could make good decisions about their personal finances. (More on the study here)

Be sure to protect yourself and your loved ones by planning ahead for this potentiality:

Consider a trusted family member or friend who will stand with you and serve as a sounding board for any major financial decisions you make.

If you work with a financial advisor, make sure they are subject to a fiduciary standard, which means they must act in your best interests (not all "advisors" are subject to this standard).

Finally, be sure you have a valid Durable Power of Attorney (DPOA) that appoints a capable and trusted person to make financial decisions on your behalf should you become unable to do so.